Loophole in credit law opens door to 360 percent interest rate

When Pauline Honey, then 95, moved back to Virginia so her grandson could help care for her, the bill was more than her family expected. So to tide her over, she took out what she thought was a payday loan.

Honey and her grandson, Randy Morse, thought a short-term, $450 loan — basically, an advance against her next three Social Security checks — would get her over the hump.

"We were in a pretty desperate situation. It was a matter of paying for food and rent," Morse said. "They said everything was fine, in three months we'd be all settled."

A year later, Honey had paid $597 toward her $450 loan and the lender, Allied Cash Advance, said she still owed $776.

That kind of loan is possible because of a few words added three decades ago to the state law that cleared the way for retailers to offer charge cards, says Del. David Yancey, R-Newport News. The result, he says, is a debt that can be almost impossible to repay.

It's the kind of steamrolling debt that Virginia lawmakers tried to stop in 2009 by tightening rules for payday lenders.

Allied Cash Advance did not respond to questions from the Daily Press.

Honey isn't the only Virginian who felt trapped by what's called an open-end credit plan, which are marketed as payday loans or car title loans or cash advances. The interest rate on her loan was 360 percent. On top of that, she was required to pay a $50 monthly participation fee.

Like a credit card, an open-end credit plan — typically called a line of credit on the paperwork — is supposed let you borrow as much as you like, up to a pre-set limit, and pay off what you borrow as quickly or slowly as you like, as long as you make a minimum monthly payment.

Court records from around the Peninsula show how fast those fees and interest charges can add up:

•A pharmacy tech at the Hampton VA Medical Center who borrowed $800 in March 2010 managed eight $50 fee payments and another $280 toward the balance, for a total of $680 — but interest, at $221 a month, meant she could never get ahead. She owed $1,249 when the lender took her to court. She settled two years later with a $2,079 payment. She did not return a call asking about her experience.

•Another Hampton woman's $300 loan had climbed to $800 a year later, when she filed for bankruptcy. That loan, $43,000 in medical bills, the balance owed on a repossessed car and credit card balances overwhelmed what she could manage on her $2,495-a-month salary as a sheriff's deputy. She had managed to make payments totaling $220 during the three months after borrowing the money, but unpaid interest over that time amounted to $183, and kept piling up after that.

•A Middle Peninsula man told the Virginia Poverty Law Center hotline that he'd paid $1,750 over a three-month period toward a $1,000 open-end credit agreement, and was rebuffed when a round of medical bills prompted him to ask the lender for an easier repayment schedule. He's regularly called at work with demands for payment.

There wasn't much the law center could do to help.

"The open-end credit loophole is a way that the lenders have to get around the statutes," said Ward Scull, a Hampton moving company executive whose work with Virginians Against Payday Loans led to the 2009 crackdown.

Unlike other consumer loans, open-end credit agreements are subject to no interest rate or fee cap.

Payday loans — which many of the open-end credit lenders had made before the 2009 regulatory crackdown — can't charge more than 36 percent plus a fee amounting to 20 percent of the amount borrowed.

The crackdown also said lenders, who used to charge triple-digit interest rates on payday loans, can't make more than one loan at a time to a borrower. The aim was to prevent the piling up of debt, like what results from the monthly fees and high interest rates of the open-end agreements.

"When I was running for office and knocking on doors, and when I ran for re-election, I kept hearing about these," Yancey said. "My constituents are being hurt."

Except for a requirement that borrowers have a 25-day grace period to repay the balance with no interest charges, there is no law regulating repayment of open-end credit loans.

And even the grace period requirement is not always followed, court records show.

Last year, Advance 'Til Payday paid a $10,000 fine and agreed to refund an average of $130 to 306 Virginians for not granting the grace period. Six similar settlements have been negotiated by the attorney general's office in the past five years. Consumer advocates grumble that the settlements go easy on the lenders and leave some borrowers out.

"I just want to be sure we are being fair to consumers and being fair to other lenders," Yancey said.

He is up against some heavy hitters. Over the past decade, firms in the business have given more than $1.4 million to Virginia politicians.

His two earlier efforts died in committee, with legislators simply sitting on their hands, not voting either up or down.

What Yancey wants is to repeal an obscure, 3-decade-old tweak to state law originally meant to allow stores to offer charge cards — the original open-end credit plans.

The tweak let loan companies get into the business.

Giants like Household Financial, Associates and Beneficial wanted to offer credit cards, as banks are allowed to do under a different section of state law. But those firms pulled out of the business long ago, preferring to stick to making small loans for fixed amounts subject to a 36 percent interest rate cap.

He said there have been few complaints from borrowers. Lenders regularly work out repayment plans when borrowers get in over their heads, he said.

"This is for when the water pump in your car goes, or the baby needs diapers and you're short," he said. The idea is a flexible, short-term loan that's easy to arrange.

The sums involved are small and many of the borrowers simply don't have other options, especially since open-end credit lenders tend not to ask for credit reports, he said. Often, the loans are unsecured, or are secured by a title to a borrower's car.

While many borrowers do repay the sum within the 25-day grace period — basically repaying the amount borrowed plus the first monthly fee — a large percentage do not. The lenders say 30 to 40 percent of borrowers never pay any interest or principal, and they need to charge fees and high interest rates to cover those losses.

But plenty, like Honey, end up paying a lot.

"They were relentless," her grandson recalls. "We were told we could go to jail. … (They) cursed us out, told us we are deadbeats. ...

"I was trying everything I could to figure out how to get them paid."

•One Newport News man owed $1,055 after borrowing $600 on an Allied Cash credit line, even after he paid $872 on the debt.

•Five months after borrowing $250, another Newport News man had paid back $315, but still owed $704, the lender claimed in a court filing. None of the money the man paid went toward his principal — it all went to monthly fees and interest.

By the numbers

12 percent: The basic cap on interest rates -- but there are lots of exceptions.

Besides the standard – borrow a fixed amount, make a fixed monthly payment to cover interest and part of the sum you borrowed – here are ways lenders tap the market:

Pay-day loan: You write a check. The lender pays you less – basically, the sum you wrote minus an interest rate and loan fee. The lender cashes the check for the face amount later, usually after you've received two paychecks.

Car-title loan: You get a short-term loan, using the title to your car as collateral.

Pawning an item. You borrow from a pawnbroker, turning over some item of value as security. If you don't repay the loan, the pawnbroker can sell the item.

Open-end credit agreement: You can borrow up to an agreed limit. You pay it off as quickly or slowly as you chose, as long as you make an agreed upon minimum payment (or monthly fee). This is how credit cards work, as well as "equity lines of credit" secured by real estate or a car title.

Some cases

Here are some more examples of open-end loans from Peninsula court records:

•A 44-year-old Newport News woman who borrowed $295 managed three monthly payments of $50 to keep up with her fees as well as an additional $74 payment, but within three months owed interest of $305. She ended up clearing her debt with a $300 payment six weeks later – her $295 dollar loan cost her $524 to repay